Retirement and Decumulation

INTRODUCTION

This is the White Coat Investor podcast where we help those who wear the white coat get a fair shake on Wall Street. We've been helping doctors and other high-income professionals stop doing dumb things with their money since 2011.

Dr. Jim Dahle:
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All right, welcome back to another great episode. We are super happy to be here with you. We are here to help you get a fair shake on Wall Street, to help you stop doing dumb stuff with your money, to help you put money into its proper place in your life, where it's a tool helping you to accomplish more and have a happier, more fulfilling, more purposeful life rather than being something you spend time worrying about or stressing over.

We firmly believe that docs with their financial ducks in a row are better docs. They're better physicians, they're better partners, they're better parents. We're here to help you. Let us know how we're doing. You can always send us emails, [email protected]. Give us five-star reviews if you can wherever you download your podcasts. Those help us to spread the word among others who may not be in our community but should be. Thanks for what you're doing out there. It's important work.

Well, let's start today by answering some questions you guys have been calling in with. And then I'm going to talk a little bit about some other stuff that we've got going on these days and that we're doing.

We're going to be talking today about retirement. We're going to be talking today a little bit about decumulation. We're going to be talking about all this fun stuff, the joy at the end of this long investing journey. First question here is from Kevin.

DECUMULATION STRATEGIES

Kevin:
Jim, I found your podcast and feel it's one of the best for investors. Thanks for what you do. I'm not a physician but work as administrator for a physician's group practice. My question has to do with the other side of the accumulation phase.

I'm approaching retirement and I'm now starting to think about the challenge of withdrawing from my investments. There are many different methods for taking income from our retirement investments like taking 4% or there's some that talk about putting investments into three buckets, one for short-term needs, one for intermediate needs, and one for long-term needs.

Anyway, it's a little confusing and I'd love to hear your thoughts and suggestions about what one should consider and viable options for withdrawing funds. And can one do it without a financial advisor? Thanks. Kevin in Utah.

Dr. Jim Dahle:
Well, thanks for being in Utah. There's lots of us here in Utah. Let's take that last question first. Can you do it without a financial advisor? Yes. There's basically three types of people out there when it comes to investors and working with financial advisors.

There's DIYers, do-it-yourselfers. People like me and many other members of the White Coat Investor community. No way are we paying somebody else to help us with this stuff. It's way too easy. We're going to do it ourselves. This is a fun, this is a hobby. We read financial books. We talk about this with people in real life and online. Of course, we like to participate on forums and not only are we asking our own questions and getting them answered, we're answering other people's questions.

If that's you, you can save yourself something like $7,500 to $15,000 a year because that's what a full service, top-notch financial advisor is going to cost you. If you like this stuff, this is the best paid hobby there is. I'm guessing that's probably 20% of high earners like docs.

It's fine that it's not 100%, but it's not 100%. And we got to recognize that. I know it's hard for those of you who belong in this 20% to imagine that everybody's not just like you, but it's true. There are people out there that should not be managing their own money. They don't love this stuff like you do. They do not pay attention to it and they're going to do a crummy job of it. They are far better off paying thousands of dollars a year to somebody else having it done right than they are mismanaging it themselves. So, let's keep that in mind.

But in the other 80%, there's two categories. One is the group of people that the financial services industry is set up to serve. We call these people delegators. They want a money person. They're like, “I don't like this stuff. I outsource my housekeeping. I outsource my lawn care. Of course, I'm going to outsource this. Why would I want to do it myself? This is boring. I'm not that good at it. I'm going to do better just having someone else do it.”

That's a delegator. They should expect to spend something like $7,500 to $15,000 a year for financial planning and investment management. And you're going to get somebody very good for that. Maybe you need to hunt around a little bit. We've got a recommended list. I highly recommend you use, but you're going to find somebody good, willing to do it for that, that's going to give you good advice at that fair price. And they're going to help you to be successful financially.

Then there's a big group of people in between. We call these people validators. And there's a whole range of them. Some of them just need a little bit of help and reassurance that they're doing fine. Maybe a little bit of access to software. They can get by with just a few hundred dollars a year of paying financial advisory fees.

And then there's people who they want a financial planner. It's going to tell them exactly what to do. And then they'll go implement that themselves. And there's all kinds of stuff in between.

It's just a lot harder to get an advisor that works with validators. It's hard for advisors to work with validators, because you're constantly looking for more of them. It's much more transactional. You're not building long-term relationships with somebody that you saw last year, and the year before, and the year before, and the year before. You're having to come up with new people all the time.

And so, it's harder. They sometimes have to charge pretty high hourly rates or pretty high flat rates in order to serve you. Still, if you need that help designing your financial plan or getting a second opinion on what you've done or just checking in every few years, be prepared to pay it for it. It may cost you a few thousand dollars, but it's going to be a little bit cheaper than the delegators are paying.

But what you don't want to do is just to be a cheapskate delegator. If you're really a delegator and you're trying to cheap out by picking up a service that's designed for validators, you're not going to end up with the outcome you want either.

The big question, if you can do this yourself, yes, it can be done yourself. Whether you can do it yourself or not, I don't know. I don't know you, Kevin, very well, whether you're a good match for being a do-it-yourselfer or whether you're a validator or really you ought to hire somebody because you're a delegator. But you've got to figure that out.

I've got a blog post out there that has a quiz on it. I just put it together one day. It can maybe help you decide if you're a validator, a delegator, or a DIYer. That's question one is, “Can you do it yourself?” And yes, it can be done yourself. It doesn't have to be that complicated.

Now, as we get into these questions of retirement decumulation, yeah, it's a little more complicated than the accumulating process, but it's not necessarily harder. What's hard is disciplining yourself, becoming financially literate, carving out a whole bunch of your income to put toward the future.

As far as hardness, it's not necessarily harder in retirement. In some ways, I am both an accumulator and a decumulator right now. I am an accumulator with regards to retirement savings. So I'm still putting money into retirement savings, even though we're past financial independence. I am a decumulator, however, of college savings. I got two kids in college right now. We're withdrawing money from those accounts and paying expenses.

I think it's a pretty good trial run for your retirement, get you used to spending money you saved for an important goal, let it compound for a number of years, and then you're taking it out and spending it. And that's perfectly fine.

But anyway, the things you got to be thinking about, one is how much money can you spend safely without running out of retirement? And there's lots of different things you can do around this question. The general rule that comes from these safe withdrawal studies is about 4% or so of your portfolio adjusted upward with inflation each year is about what you can spend and expect your money to last at least 30 years with a pretty high degree of certainty, assuming you're investing in kind of a typical portfolio.

4% or so. That tells you about how much money you need for retirement. You need about 25 times what you spend, and then you're financially independent. You can live on just your money the rest of your life. And that's about how much you can take out.

The right answer is about that much. Where it comes from doesn't matter nearly as much as the fact that you're not taking 15% of your portfolio out every year and spending it. If you're doing that, you're going to run out of money no matter where you're taking it from.

Now there's lots of nuance beyond there and lots of people that like to make it more complicated than maybe it has to be. So, let's go through a few principles here of the accumulation phase you ought to be thinking about. The first one is what I mentioned. You got to start in the right neighborhood. Yes, you can spend more than 1% of your portfolio a year. Yes, you can spend more than just the income. You can spend more than just the dividend yield of your portfolio because that's probably less than 4% if you have typical investments. But it can't be 8% or 10% or 15% either. It's got to be in the neighborhood 3, 4, 5% kind of in that range. That's number one.

Number two, recognize that you're mortal. There's way too many people out there that think their money has to last forever. I got news for you. You're not going to last forever. The bigger problem is actually you're going to get to an age where it's really hard for you to turn money into fun. It's really hard to turn money into happiness. It's really hard to turn money into awesome life experiences.

My dad has hit this. He was so looking forward to flying this summer as he recovered from one medical problem. And by midsummer, by the time the plane was done with this annual inspection, he's ready to get out flying it, he was dealing with another medical problem. And you are just far more likely to have health challenges or to die relatively young than you are to run out of money and not be able to spend it on fun stuff later.

Recognize your own mortality. This is the big lesson in the book, Die With Zero. And if you're wealthy already, you ought to read Die With Zero. The book's not perfect, but it's the best book I know of for those of us who have trouble spending.

Another important principle to understand as you're trying to decide how you want to spend money and how much money you want to spend is that your portfolio still has to grow in retirement. You don't turn 65 and retire and leave it all in cash until you die. That's not the way it works. It's got to grow. It's got to grow to overcome inflation. Inflation still takes place during retirement.

And the reason you can take out 4%-ish plus inflation each year is because the portfolio is still growing. Yeah, you spent 4% that first year, but 96% of it still grew and had returns on it. And part of what you're spending in the future is money, your money made during retirement. You still need to be invested in with some of your money in risky assets that have a little bit higher returns in retirement.

Here's another thing to realize as you start doing deep dives into all this data and research on the decumulation phase. The data sucks. It's not that good. There's not that much of it. Really, even stock market data, it really only goes back to like 1926. We've got some data into the 1800s, but it's not awesome. As far as independent 30-year periods, there aren't very many of them. There's only what? About four of them. That's it. If you were doing a medical study, there's no way you would consider this a good dataset.

Recognize the limitations of any sort of back-tested theory, any sort of back-tested portfolio, et cetera. The future may not resemble the past, deal with it. And few of those studies look at anything besides publicly traded stocks and bonds. They're not looking at Bitcoin. They're not looking at real estate even. So, recognize that.

And this is my next principle, you've got to be comfortable with uncertainty. This is something as an emergency doc, I've gotten very comfortable with. I discharge a lot of patients. I don't know what their diagnosis is. I know they don't have anything bad that's going to kill them in the next day or two. And I know where they need to go for follow-up and maybe what testing they need to be doing down the road as an outpatient, but I'm okay not knowing exactly what's going on. And you've got to be okay with some uncertainty when you're planning for retirement as you're choosing between different ways to spend your money and where it should come from. You got to be comfortable with some of that uncertainty.

Okay. Here's another thing to consider. Don't believe precision. When you see these people telling you, you ought to have 43.75% of your money in U.S. stocks and that you can withdraw 3.84% of your portfolio each year, give me a break. The data is not that good. You cannot get that precise on it. So, don't believe people who start using numbers like that. Believe the people that say things like 4%-ish or maybe you ought to spend a little less because you're retiring at 45. Maybe you ought to be spending three and a quarter or three and a half percent or something like that. Fine. But when they tell you it's 3.47%, you can be assured that they don't really understand how statistics works.

The other principle is you're probably not doing a “set it and forget it” kind of thing. As far as your retirement goes, you're probably going to need to make some adjustments. Most of the best plans that academia can come up with adjust and they adjust to your life and your spending needs. They adjust to market returns, so on and so forth. There are variable methods of withdrawing from your portfolio.

The other thing to keep in mind is this stuff's all academic for most people. Most people either have significantly more money than they need whether they're wealthy or not, they probably have more money than they need. And they frankly only need to be spending 1 or 2% of their portfolio a year and it's fine.

My parents aren't that wealthy and they don't spend 1 or 2% of their portfolio every year. Most of the time, their required minimum distributions are coming out of their tax deferred account and going into their taxable account. It's fine. And that's the way it's going to be for a lot of White Coat Investors that do a really good job in the accumulation phase is this is all just academic.

All these studies people do on withdrawal techniques, so on and so forth are for people that barely have enough. If you work for a few more years after you barely have enough, this is all academic because you're not going to need anywhere near the maximum amount that you can take out of your portfolio.

Your biggest problem is figuring out who you're going to leave all that money to when you go or how to spend money in a way that's going to make you more happier or who you're going to give it to during retirement. That's just going to be the case for lots and lots of White Coat Investors. Those sorts of people don't have to worry a lot about which exact method they're going to use for withdrawing money in retirement.

Some of the options you can take if you're in that category where you kind of barely have enough or whatever. Well, you can just keep an eye on it. Take out 4% that first year, adjust it up a little bit, depending on how the markets did, recognize that if markets really crash, you got to be pretty flexible in adjusting that down. But that's one option.

Another option is put a floor underneath your mandatory spending. Delay your social security to 70 so you can get as much of that floor indexed to inflation as possible and maybe buy a few single premium immediate annuities to pay for your mandatory expenses, your fixed expenses, and then use your portfolio to pay for the variable expenses.

You had a good year? Great. Go on a cruise to the Mediterranean. Didn't have such a great year? Okay. Well, you eat at home a little bit more, but you can use your portfolio to make those adjustments.

Another thing some people do is they use a bucket strategy. You alluded to this in your question. You have some money in cash that's maybe for the next two or three years worth of spending, and you have some money in bonds or whatever for years four through eight or something. And then you have money above that in stocks.

And as long as it wasn't a terrible year, after a year, you replenish the bond bucket, you replenish the cash bucket, and you move on to the next year. Whereas if you had two or three bad years, well, maybe you go two or three years before you replenish that bond and cash bucket. Now, you ought to write your plan down. You ought to follow your plan that you write down if this is what you've chosen to do. But that is a reasonable approach to take.

Another reasonable approach to take is what you call the RMD method, where you look at what your required minimum distribution would be for your given age. And you can find these tables even if you're below age 73 or 75, and you take that amount out each year. If you're 65, that amount might be 3.5% percent. If you're 90, that amount might be 8%. And most studies show you can actually take out a larger percentage than the RMD percentage. But that's a pretty safe way to spend to make sure you don't run out of money. It adjusts upward as you go by virtue of the increasing percentage as you go. It doesn't mean you can't get a very low percentage. You'll never run totally out of money, though.

And then some people use a more rules-based variable withdrawal percentage. And there's lots and lots of these. There's at least a dozen of them out there. And I'm not going to tell you one of them is better than the others. But some people will tell you that one of them is better than the others. And you can discuss this ad nauseum on the forums if you're a do-it-yourselfer. And if you're not a do-it-yourselfer, well, get your financial advisor to figure it out. You shouldn't have to if you're going to pay them thousands of dollars a year for that. Okay, I think I answered your questions at least about as best I can without a little bit more specificity to them.

By the way, we have an upcoming event. I think this podcast drops on September 11th. On the 22nd, we've got a FEW event, the Financially Empowered Women. Elisa Chiang is going to be talking about wealth and women, deconstructing social narratives for financial empowerment. And that's going to be Monday, September 22nd, 06:00 P.M. Mountain Time. You can sign up at whitecoatinvestor.com/few. Yes, that's a women-only event in case you're curious. But check that out.

Okay, let's get into our next retirement-related question. This one's also coming off the Speak Pipe.

DOES YOUR ASSET ALLOCATION NEED TO CHANGE OVER TIME?

Speaker:
Hi, Jim. Thanks for being so transparent about your asset allocation. I'm wondering if you're planning to change it over time. For example, if you're going to increase your bond allocation to greater than 20% in retirement. And if so, what you are planning to decrease.

One thought I've had as I've contemplated whether or not I want to put a small value tilt in my portfolio is I'm 35, so I have a long time horizon. But in retirement, I think I would rather have less volatile investments when I'm not working anymore. And so, if I put money in small value now, then in 20 or 30 years, I think I would prefer to just be allocated to things like total U.S. stock, total international stock for the stock portion of my portfolio.

I’m just wondering if you're going to keep your same small value tilt for the rest of your life, or if you're going to potentially decrease that when you increase bonds. Thanks so much.

Dr. Jim Dahle:
Okay. Well, there's a couple of questions here. Some of them are personal and specific to me, and I don't mind talking about those questions. I don't know how helpful it is to most of you, though.

My financial situation is not the same as most of your financial situations are. Thanks to the success of the White Coat Investor, we're fairly wealthy people. We have an estate tax problem. That means most of, and we don't spend any more than most typical doctors.

So what does that mean? That means most of our assets are not going to be spent by us. They're going to be left to charity. They're going to go to heirs, etcetera, etcetera. In a lot of ways, we're not investing for ourselves. We're investing for our heirs, for charity, etcetera. And that has an effect on how you invest, how you change your investments in retirement, how you, what your asset allocation is, etcetera. It has an effect.

But in general, most people decrease the aggressiveness of their investments as they get close to retirement and particularly in those first few years after retirement. The reason for that is to reduce your sequence of returns risk.

What is sequence of returns risk? That is the risk that while you're withdrawing from your portfolio, your portfolio is also falling rapidly in value. That's when sequence of returns risk shows up. It's the risk that despite having adequate average returns during your withdrawal period, you run out of money because the crappy returns came first. That's sequence of returns risk.

You reduce the risk of that in lots of different ways but the main one people do is they just invest less aggressively, at least for the last few years before retirement and the first few years in retirement. That usually means an increased allocation to safer assets like bonds or CDs or cash or whatever.

You need a plan for sequence of returns risk. What are you going to do if it shows up? What are you going to do to kind of prepare for the possibility of it showing up, et cetera? And then if it doesn't show up, well, fine. You can actually get more aggressive later. In fact, a lot of people argue for an increasing percentage of your assets and stocks throughout retirement.

But the traditional teaching is that you increase your bond allocation throughout retirement and you get less aggressive as you go. And I don't know that anybody's right about that. I understand and agree somewhat with the arguments for both things. You definitely still need growth in retirement. You don't want to go all bonds or all cash. But how much goes into that safer investments is really up to you, particularly if you're a do-it-yourself investor. It's got to be something you are comfortable with.

The general rule is as much in risky assets as you can handle without selling low in a nasty bear market. But how much that is, is a little bit different for everybody. Most people will increase their bond allocation in retirement. If you want to drop your small value tilt when you get to be a certain age, that's not unreasonable. Maybe if you've got 25% in US stocks and 15% in US small value stocks, and you want to increase your bond allocation by 15%, well, maybe over the course of five years, you decrease 3% a year what you own in small value stocks and you increase 3% a year what you own in bonds. Totally reasonable plan. And then you'd get rid of your small value tilt as well as increase your bond allocation in retirement.

Do I foresee myself doing that? Probably not. When you choose to tilt your portfolio to something like small value stocks because you think they're going to have better returns in the long run, that's a long-term decision.

I've been doing this now for 20 years. So far, it's been the wrong decision. I have less money than I would have had if I had not tilted my portfolio towards small value stocks. In fact, I would have been better off tilting it toward large growth stocks, which the data we have, which is not awesome, suggests is not the best thing to do.

So, keep that in mind as you move through retirement, your asset allocation remains just as personal as it was before retirement. And you've got to decide on something reasonable and you got to stick with it. And that's the bottom line. I'm not going to tell you exactly how your asset allocation ought to change. I can tell you my plans aren't to make significant asset allocation changes anytime soon and maybe ever.

One change we have considered is just making our bond allocation a fixed amount of money and everything above and beyond that, however much that might be, goes into riskier investments. But that's more a function of our wealth level compared to our spending needs than it is necessarily a change in asset allocation for some other reason. Asset allocation is always personal. It's got to be in accordance with your need and ability and desire to take risk.

CALCULATING YOUR NUMBER FOR RETIREMENT

Okay, we got an email that said “When you state if your plan does not account for inflation, it will fail. Are you talking mainly about your monthly cash flow or your retirement goal? I have a spreadsheet where I track spending and use that to calculate my annual spend and project my retirement number. Inclusive in the calculation for financial independence, which he says 25X, and FIRE, financial independence retire early, which he says 50X.

I use that FIRE number as my retirement goal that I do, though I do not plan to retire once I hit it. Do you feel that number should be indexed to inflation? That is, should I take my current spend and project that with a reasonable average inflation rate to truly calculate my thresholds, or does that get factored in with 25X, 50X? Thanks for your opinion.”

Okay, I think when we talk about these multiples, we're typically talking about a multiple of what you spend. This idea out there that you can spend about 4% of your portfolio a year and not run out of money suggests that you need about 25 times what you spend to be financially independent. Now that's 25 times of what you just spent this last year, not 25 times what you spent 20 years ago.

Okay, that's where the number comes from. Yeah, it's got to be adjusted for inflation as you go. When we first wrote our financial plan in 2004, I think our financial independence number was $2.7 million. Well, $2.7 million in 2004 is the equivalent of something like $4.2 million now. Yeah, we need more money now than we needed in 2004 when we wrote up the plan.

It's important anytime you're doing any sort of long-term projections that you adjust your numbers for inflation. You can do that either with your returns, adjust them down and say, “Well, I'm going to make 5% a year real, not 8% nominal”, or you can do it with the amounts you need and adjust that to go, “Okay, I'm not going to need $2.7 million, I'm going to need $4.2 million.”

But you got to adjust it. Don't ignore inflation. In the long run, inflation is a major factor in your finances. There's going to be some inflation. How high it's going to be, we don't know. Adjust as you go.

Knowing all that, 50X is nuts. 50X is spending 2% a year. There is no scenario, no asset allocation where if you're only spending 2% adjusted for inflation every year, you're going to run out of money. You're going to die dramatically wealthier than you were on the day you retired.

Anybody out there telling you you need 50 times what you spend is just a ridiculously conservative nutcase. It's not true. You don't need that much money to retire. If you have that much money, it's fine. I'm not saying it's bad to get that wealthy. It's not bad if you only want to spend 2% of your portfolio. But doing that because you think you're going to run out of money is dumb.

25X is what most people think. If you want to be really conservative and you're like, “I don't know, I might retire early and I might have bad returns and the world might implode and Donald Trump's in the White House” or whatever else is freaking you out at the moment, fine, adjust it up to 33X but not 50. 50 is getting into ridiculous territory.

And some people do get ridiculous. I wrote a blog post that was titled The Silliness of the Safe Withdrawal Rate Movement. And it talks about just how nutso some people get when they start talking about this. And if you read what those nutso people are writing and believe it, it might cause you to not only work for years longer than you really need to at a job you're not enjoying, but it might cause you to spend much less than you would prefer to spend, that you could buy more happiness with. And you'll end up dying the richest doc in the graveyard instead of having an awesome financial life. So, don't get nutso about this stuff.

All right. The second point I want to make is, yeah, it's got to be 25X or whatever, what you're spending that first year in retirement. Not if you were going to retire today, unless this is the year you're actually retiring. You got to adjust as you go, you got to adjust what you're going to be spending every month. You got to adjust how much you need in order to do that. But how you adjust for that, I don't care. You can adjust on either end. Just recognize that you're going to need to make adjustments for inflation.

If you're happy today spending $100,000 and you think you want to maintain that in retirement, it's going to be more than $100,000. Have you been to fast food restaurant lately? You can no longer buy a burger and fries and a shake for $5. You just can't do it. It's probably $15. And that's the case for lots of stuff that you buy is it just becomes more expensive.

QUOTE OF THE DAY

Our quote of the day today comes from Robert G. Allen. He said, “How many millionaires do you know who have become wealthy by investing in savings accounts? I rest my case.” And I liked that quote because it reinforces the fact that you've got to take some risk with some of your money. For most of us, the majority of our investment portfolio, the majority of our asset allocation has to be in risky assets like stocks, real estate, etcetera.

We need our money to do some of the heavy lifting. We cannot save it all ourselves. If you want to save for retirement using nothing but safe investments, safe, low returning investments, cash, CDs, bonds, whole life insurance, gold, whatever. If you want to put all your money into those sorts of investments, recognize you got to save about 50% of your gross income throughout a standard length career. 20% isn't going to cut it. That 20% number I throw out on this podcast all the time is assuming your money's taking some risk, both before retirement and after retirement. It can't all go in CDs or you got to save a ton of money.

GIFT TAXES AND CALCULATING BASIS

All right. Let's talk about an issue brought up on the White Coat Investor Forum. This post said this. “Recently, I and my parents gifted our shares of a rental property to my youngest sibling as a means to support them in adulthood. The initial purchase price was $120,000, has more than doubled in valuation based on an official appraisal prior to transfer.” I'm glad to hear they got an appraisal prior to transfer. That's pretty important actually.

“My gift of equity would be half the share of the house. An accountant had prepared a gift tax form to submit to the IRS. I noticed that they put in my gift is 50% of the updated appraisal.” Okay. Well, that makes sense. “However, my understanding is that there is no step-up in basis given that we are both living.” That's correct. The step-up in basis happens at death, not while you're living. “Should the accountant have prepared the gift tax form with whatever my initial basis was minus depreciation taken, which is a lower basis than the original purchase.”

Okay. So, the question was, “Should the accountant have taken into account the depreciation when calculating the basis?” Wow. That's a complicated question. I don't know the answer for sure. It seems fair to do that, but are most accountants doing that? I bet they're not. I bet they're not because it's harder. It takes more work to do that.

So, let's talk for a minute about gifting. Gifting is a nice thing to do. Thanks for being gifters. When you give stuff to charities, you get a tax deduction for it often, and it can help the charity. It's a wonderful thing to do.

When you're gifting stuff to other people, you got to keep in mind the consequences of doing it. Sometimes gifting stuff to people causes them to live their life differently in a way that you maybe didn't foresee and don't like. Give too much money to your 20 year old, and maybe they choose a different career than they would have otherwise. Maybe they take a different job than they would have otherwise. Maybe they end up marrying somebody different than they would have otherwise. There's consequences.

And likewise, there's some pretty awesome consequences to donating appreciated assets to charities. You get the full charitable deduction for the value as long as you've owned it for at least a year. Whatever the value was when you donated it, that's your deduction amount. You don't have to pay the capital gains taxes, and the charity doesn't have to pay the capital gains taxes. And if it's an asset that's been depreciated like a real estate property, you don't have to pay the depreciation recapture taxes, and neither does the charity. That's great.

That's not the case when you give it to somebody that's not a charity. If you give it to your sibling or something, they inherit your basis. There's no step up in basis. Basis is what you paid for the property. There's a step up in basis at death, but when you give something away, they inherit your basis.

Now that might be smart. If a wealthy grandpa gives money to not-so-wealthy 18-year-old Joe Bob, and now Joe Bob can sell it and not pay any capital gains taxes that grandpa would have paid if he had sold it and then given the remaining cash to Joe Bob, well, that's a good move. Let Joe Bob in the low tax bracket pay the taxes. And sometimes that tax bracket is 0%, especially for long-term capital gains.

So, that can be a good move to do that for the family, but recognize that Joe Bob has the same basis grandpa had in that, and so he may need to pay taxes, depending on his tax bracket when he goes to sell that asset. And that's just the way it works.

So, be careful giving things to people. Think about the tax consequences when you give it to them. Think about the life consequences when you give it to them. But a lot of times, it just makes sense to die first and give it to them in your will, because then they get the step up in basis of death. They save all that depreciation recapture tax. They save all that capital gains tax, and it's great.

One of the dumbest things you can do out there is put your kid on your title with you of your house. You buy this house in whatever year, it's $200,000, and you live in it for decades, and now it's worth $1.5 million. And you're like, oh, this would be a to get the house, so I'm 90 years old, but I'm going to put Joe's name on the title. Bad move.

Instead of Joe now getting the house with a basis of $1.5 million, now Joe gets the house with a basis of $200,000, and he owes capital gains taxes on like $1.3 million. That was not a very nice gift for Joe. It's still a nice gift. Joe still comes out ahead. But it would have been nicer if Joe had just gotten it when you died and gotten that step up in basis of death.

Understand these basic rules when you're giving gifts, when you're receiving gifts, when you're planning with multiple generations, how to pass assets along, and make sure you do it correctly.

Okay, let's talk for just a minute about a dilemma that my parents and I were dealing with recently. As you know, I help them manage their portfolio, and they've now got three kinds of assets in that portfolio, the same three kinds that a lot of us will have in retirement. And they want to spend some money this year. They were doing some prepaid funeral expenses, they're doing some renovations on the house, and they want to spend some money.

Three types of assets. My dad's got a small Roth IRA, and they've got some tax-deferred money, and they're of RMD age, so they're required to take some required minimum distributions out of those tax-deferred accounts every year. And because they haven't spent all those RMDs, we've reinvested them in the taxable account. And now all the assets in the taxable account have significant capital gains.

Now we get to the point where they want to spend some money, and we got to decide where to take it from. Now, in this case, it wasn't a big deal, because they told me, “Hey, just leave that money in cash from the RMD last year, we're going to use it on a renovation.” So, we left it in cash. It's been sitting there for the last eight months in cash. And then they've got enough to actually pay for these next couple of expenses they have that's just been sitting in cash in there. So, no big deal, no tax consequences to solve it.

But if they wanted to spend more, we got to decide where to take it from. Now, the obvious place to start with is any money that you already got to pay taxes on anyway. And in this case, they have not yet taken their 2025 RMD. If they wanted to spend more than they already had in cash, that would be where we'd take it from. We'd take it from their RMD.

As I record this, it's the end of August. By the time you listen to it, we're into September. And we're only three months from the end of the year, the last date at which they can take their RMDs for the year. And so that's where we take it out from. And that would give us a certain amount of money that they can then spend that they're already going to have to pay taxes on this year, so they might as well spend that money first.

Now, if that's not enough to spend, that leaves us the three options. We can take more out of those tax-deferred accounts. We're going to pay taxes at ordinary income tax rates on that money. Or we can liquidate some of the taxable accounts. We're going to have to pay long-term capital gains taxes on the amount of that money that's gained. Or we can raid that Roth account.

Hard decisions, right? There's lots that goes into it. Maybe if you do the wrong thing, your IRMA, this additional fee you pay for your Medicare taxes might go up a little bit. Or maybe you're just taking that money out in a relatively high bracket.

So, lots of choices there. Probably the best thing to keep their tax bill low, which is their main priority at this point. They're less worried about their heirs and what their heirs' tax rates are going to be. Probably the best thing to do would be to either take a little bit of Roth money out, if they want some more money, or to sell the taxable assets.

They're not going to be paying a very high long-term capital gains tax rate on that money. I'm not even sure they're out of the 0% long-term capital gains tax bracket yet, but that's probably where we would go first if we wanted to raise some more money from their portfolio.

But these are complicated questions. These questions like this are why lots of people pay a financial planner to help them wrestle with them and come up with the right answer for them and their situation and who their heirs are, what tax bracket their heirs are likely to be in.

But obviously you spend the stuff you got to pay taxes on first, and then you can look at the other options for spending money and decide what your priorities are. And a lot of times if your heirs are in a lower tax bracket than you, your priorities might be to spend Roth money, to spend taxable account money rather than tax deferred money, because your heirs will pay a lower tax rate on that.

On the other hand, if you're leaving it to your kid that's a doctor and they're going to be in their peak earnings years, maybe you want to leave them Roth accounts preferentially and have paid the taxes on your side before the money goes to them. It can get pretty complicated, but those are the things to be thinking about.

SPONSOR

This episode was sponsored by Laurel Road for Doctors. Laurel Road is committed to helping residents and attending physicians take control of their finances. That's why they've designed a personal loan for doctors with special repayment terms during training.

Get help consolidating high interest credit card debt or fund the unexpected with one low monthly payment. Check your rate in minutes. Plus White Coat Investors also get an additional rate discount when they apply through laurelroad.com/wci.

For terms and conditions, please visit www.laurelroad.com/wci. Laurel Road is a brand of KeyBank N.A. Member FDIC.

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A recent one came in from Emile who said “Life changing podcast. This podcast and the corresponding White Coat Investor book has been easily the most influential podcast in my life and career of any I've heard. Strongly recommend for anyone who does not feel 100% comfortable with their finances.” Five stars. Thanks so much for that review.

All right, that's it. We're going to see you next time. If you got questions, leave them for us on the Speak Pipe, whitecoatinvestor.com/speakpipe.

Until next time, keep your head up and shoulders back. You've got this. The whole White Coat community is standing next to you waiting to help you to be financially successful because they want you to be a better doc, a better partner, a better parent. And we know if we can help you get your financial ducks in a row, that's what will happen in your life. See you next time.

DISCLAIMER

The hosts of the White Coat Investor are not licensed accountants, attorneys, or financial advisors. This podcast is for your entertainment and information only. It should not be considered professional or personalized financial advice. You should consult the appropriate professional for specific advice relating to your situation.

INTRODUCTION

This is the White Coat Investor podcast Milestones to Millionaire – Celebrating stories of success along the journey to financial freedom.

Dr. Jim Dahle:
This is Milestones to Millionaire podcast number 239 – A professor and a dentist become multi-millionaires.

This podcast is sponsored by Bob Bhayani of Protuity. He is an independent provider of disability insurance and planning solutions to the medical community in every state and a long-time White Coat Investor sponsor. He specializes in working with residents and fellows early in their careers to set up sound financial and insurance strategies.

If you need to review your disability insurance coverage or to get this critical insurance in place, contact Bob at www.whitecoatinvestor.com/protuity. Or you can also email [email protected] or you can just pick up your phone and call (973) 771-9100.

Disability insurance, if you don't have it and you are depending on your income, you need it. Get it in place today.

All right. Don't forget, if you have interest in real estate investment, particularly if you are interested in investing passively in real estate, check out our opportunities list. This is a list where we introduce you to companies, mostly fund providers, private fund providers that offer real estate investments.

This might be on the debt side. It might be on the equity side, whatever. There's a bunch of different options there. We have a turnkey provider on there. Lots of different ways you can invest in real estate. You can find all that at whitecoatinvestor.com/reopportunities.

But this is the Milestones to Millionaire podcast. This podcast is driven by you. And we'd like to feature you and your successes on this podcast. We can use them to inspire others to do the same.

But stick around after this interview. We've got a great interview today, but stick around afterward. We're going to talk for a few minutes about the concept of waterfalls.

INTERVIEW

Our guest today on the Milestones to Millionaire podcast is Matt. Matt, welcome to the podcast.

Matt:
Thanks for having me.

Dr. Jim Dahle:
Tell us what you do for a living, what part of the country you're in, and how far you are away from your schooling.

Matt:
I am in Pennsylvania. I'm 10 years out of graduate school, and I am a professor teaching chemistry at a small liberal arts college.

Dr. Jim Dahle:
Very cool. I don't know that we've had a professor on here before, and this is episode 239. So, it's pretty great to have you. As a lot of people know, there's a lot of doctors that listen to this podcast, but it's far from everybody. It's only about 75% of our audience is doctors. At least 25% that is something else, and you are part of that something else. So, welcome. And this message is for everybody else out there that is not a physician. You're welcome on this podcast too. So, just by way of introduction there. All right. Tell us what milestone you've accomplished that we're celebrating with you today.

Matt:
My wife and I have a million dollars invested.

Dr. Jim Dahle:
Wow. That's even better than being a millionaire, right? That's a million in investable assets. And when did you realize this?

Matt:
About two months ago.

Dr. Jim Dahle:
Very cool. Is this something you track regularly, or you just happen to add it up and realize you were there?

Matt:
We track monthly. My wife and I have monthly date nights where we go over finances and sort of our goals.

Dr. Jim Dahle:
Sounds like a wonderful date.

Matt:
It took a little while to get her into it, but now that we're millionaires, it's much easier to talk about.

Dr. Jim Dahle:
Yeah. There's a lot of good stuff to talk about. Very cool. Okay. Well, let's get into the deets a little bit here. Tell us a little bit about your household income over the last 10 years.

Matt:
Sure. My wife actually is a dentist. We're part of the White Coat Investors, I guess, in that sense. But she's also about 10 years out of school. And right now we make about $400,000 combined. But she owns her own practice. And so that has drastically increased our wealth in the past couple of years.

Dr. Jim Dahle:
I'm sure. But I'll bet it also increased your debt dramatically, didn't it?

Matt:
That it did too.

Dr. Jim Dahle:
What was the lowest your net worth ever was?

Matt:
Right out of school, it was negative $250,000.

Dr. Jim Dahle:
And then did she take out a practice loan right out of school, or was that years later?

Matt:
No, she was an associate until three years ago. She was an associate for the first seven years.

Dr. Jim Dahle:
Okay. And how far did she get into her student loans as an associate?

Matt:
Well, actually, we just paid off her student loans earlier this year. They were on pause during the pandemic so we didn't pay any off. And we actually saved up to buy the practice at that point, when we weren't paying on the student loans.

Dr. Jim Dahle:
Okay. Tell us about your career pathway.

Matt:
I did a postdoc after I got my PhD, and then immediately went into the job market and got my job. This is my 11th year teaching.

Dr. Jim Dahle:
Same place?

Matt:
Yes.

Dr. Jim Dahle:
And what a chemistry professors make these days?

Matt:
I make about $70,000.

Dr. Jim Dahle:
Okay. Certainly not the same as what a doc who owns her own practice is making.

Matt:
That is very true.

Dr. Jim Dahle:
Yeah. Okay. What do you think you averaged over those 10 years as far as income?

Matt:
Probably around $250,000, $300,000.

Dr. Jim Dahle:
$250,000 or so. Okay. Have you added up your net worth as well? I mean, we know you have a million dollars in liquid assets, but what's your net worth total, do you think?

Matt:
About $2 million.

Dr. Jim Dahle:
About $2 million. Tell us what that's composed of.

Matt:
Yeah. We have the million dollars invested. We have a fully paid off house worth about $400,000. And then we have her practice, which her equity is probably a little over half a million. And then we own the building that she practices in. That's worth about $400,000. And then we have a rental property worth about $200,000.

Dr. Jim Dahle:
Okay. This is a little bit of an interesting lineup for your debts. You said the house is paid for that you're living in.

Matt:
Yes.

Dr. Jim Dahle:
But there's debt on the practice.

Matt:
Yes.

Dr. Jim Dahle:
Is there debt on the building the practice is in as well?

Matt:
Yes.

Dr. Jim Dahle:
And what about the rental property?

Matt:
There's a little bit left, but we're hoping to pay that off next year.

Dr. Jim Dahle:
You seem fairly anti-debt.

Matt:
Yes.

Dr. Jim Dahle:
10 years out of school and your home's already paid for. When did you pay for that?

Matt:
We paid that off in 2018.

Dr. Jim Dahle:
Long time ago.

Matt:
Yeah.

Dr. Jim Dahle:
Tell us about that. Why was that such a priority for you? And how did you pay that off so quickly?

Matt:
It was mostly a priority because that was in both of our names. And the student loans was all in my wife's. We prioritized paying that off rather than the student loans. Mostly as a hedge against something happening to her.

Dr. Jim Dahle:
You figured no one was going to come and foreclose on her brain, but at least you'd have a roof over your head if something happened.

Matt:
Exactly. Yeah. And at that point, we had three kids. And so, it was stabilizing the home life versus anything else. Because as she's the big breadwinner in our household, if something did happen to her, our income would go down pretty drastically.

Dr. Jim Dahle:
Yeah. How many kids now?

Matt:
Still three. We stopped after the third one.

Dr. Jim Dahle:
Okay. So, how did you balance being financially successful with raising three kids?

Matt:
It was a challenge at first. When she did a residency for a year, a general practice residency. And she only made $50,000 at that point. And that's when we had our third kid. At that point, we were making a little over $100,000. We had three kids all under the age of five. And it was stressful. But we started having our monthly date nights to just talk about, “If we have any extra cash coming in, what are we going to do with it?” And once we paid off the house, then things really started to balloon for us.

Dr. Jim Dahle:
Wow. Yeah. As income goes up, as debt goes away, of course, the money has to go somewhere. And it sounds like for you, it went into investments. Tell me about how you guys invest.

Matt:
We both max out our retirement plans. And then we both have 401(k)s. And then through her office, she does profit sharing, which allows her to sock away about $65,000 a year. And then we both do backdoor Roths. And then we have a brokerage account that we stick some money in every month as well.

Dr. Jim Dahle:
A little bit of this, a little bit of that but it sounds like mostly publicly traded securities, mutual funds. Is that what you're invested in?

Matt:
Yeah, pretty much all index funds.

Dr. Jim Dahle:
Okay, very cool. All right. Well, tell us about the biggest money disagreement you had. You said it took a little while to get used to having monthly money meetings. What was the biggest disagreement you ever had?

Matt:
I think when we started to have a surplus, it was “What do we do with it?” And for a while, we were splitting a little bit on to paying down the house versus paying off student loans versus investing. And at some point, we decided we just need to pick one goal and focus on it. That became the house until we paid that off. And then it became, okay, let's buy a rental property. And so, we bought our first rental not long after we paid off the house. It was really just figuring out how we wanted to allocate the next dollar. And then once we sort of came up with a plan, then it's gone pretty smoothly since then.

Dr. Jim Dahle:
Yeah, it's one of the hard things. You come out of school, you come out of training, whatever. You got 12 good uses for money and only enough money for four of them.

Matt:
Yeah, exactly.

Dr. Jim Dahle:
You got to choose which ones to do. The fun part, though, is now, if you look back on those 12 things you had to do with money, you've only got two or three of them left.

Matt:
Yes.

Dr. Jim Dahle:
The decision is dramatically easier a decade later, isn't it?

Matt:
Yeah. And it's much more fun to talk about these things than it was those things.

Dr. Jim Dahle:
Yeah, investing is way sexier than debt, for sure.

Matt:
Yeah.

Dr. Jim Dahle:
Very cool. So, what's your secret to success? There's somebody out there like you. 10 years ago, married to a dentist, married to a physician, whatever, trying to combine your finances, start working together toward financial goals. And they're going, “Man, I'd like to be a multimillionaire in 10 years.” What advice would you give to them? How'd you do this?

Matt:
I would say first, having these monthly meetings has been really helpful, discussing how we want to allocate that next dollar. And then we've always automated our savings. It's always coming out of the paycheck before we see it. Our retirement funds, our brokerage account, that's all coming out before it hits our bank account. And so, we're always trying to pay ourselves first.

Dr. Jim Dahle:
Very cool. And that way you're going to have some savings and you just got to be frugal on the backside, I suppose.

Matt:
Yeah.

Dr. Jim Dahle:
What's been your biggest splurge in the last couple of years?

Matt:
We started traveling a lot more. We took a Mediterranean cruise last year. We went to France earlier this year. We've been to Mexico and Canada in the last couple of years with our girls. So, really travel.

Dr. Jim Dahle:
Very cool. So you're not supposed to live like a resident for half your career. Is that right?

Matt:
That is right.

Dr. Jim Dahle:
Thanks for that. Every now and then people here live like a resident. They assume I want them to do that until they're financially independent. But really, it's just the idea of front-loading some of your financial tasks like you guys did. And then the truth is, when the kids are young anyway, they're not going to remember those trips. So, it might as well once they get to be a little bit older to take those opportunities. Very cool. What's next for you guys?

Matt:
Well, we're going to pay off our rental within the next year and then probably try and look to invest in more real estate.

Dr. Jim Dahle:
Very cool. You got a goal to be a landlord of a little real estate empire. How many doors do you anticipate you're going to build into this empire?

Matt:
We'd like to have three. That way we could have one for each of our kids. But we'll see if we go beyond that.

Dr. Jim Dahle:
Very cool. Is your area getting like mine where you look around and you wonder how your kids are ever going to be able to afford to buy a house in your area?

Matt:
Yeah. Our house has doubled in value in the past 10 years.

Dr. Jim Dahle:
Yeah, I know how that feels for sure. Well, very cool. Congratulations, Matt. You have done awesome. You and your spouse have done awesome and your kids. It's a team effort. You put it all together. You've managed money well. You've increased your income. You've taken care of your debt. You should be very proud of yourselves. I know others will find this very inspirational to see that, “Hey, they're no different than we were. And if they can do it, we can do it.” So, thanks so much for being willing to come on the Milestones to Millionaire podcast.

Matt:
It's been my pleasure. Thanks for having me.

Dr. Jim Dahle:
All right. Another great interview. The thing I love about these interviews is in some ways, they're all the same. Because the pathway to success, for the most part, looks the same for everybody. You decided you were going to take control of things. You became financially literate. You carved out some significant chunk of your income and used it to build wealth.

Now, it's a different order what people do. Sometimes people pay down one debt before another or they invest more instead of paying down debt or they pay down debt more instead of invest. Whatever. But you give it a few years of deliberately working to build wealth and you get there. You become a millionaire. You become a multimillionaire. You become financially independent.

And before long, money is no longer a significant factor in how you live your life. It's way beyond not worrying about money. It's just not a factor anymore. And it's a beautiful place to be. And it's a place where I think you can not only be the most present partner and parent, but you can be the best doc you can be. Because you're no longer focused on what a procedure or a clinical day is going to pay you. You're focused on the person sitting in that seat or lying in that bed that needs your care. Now, I just think you become a better doctor when you're not as worried about money. That's a pretty wonderful thing.

FINANCE 101: FINANCIAL WATERFALL

Now, I told you we were going to talk a little bit about the concept of waterfalls. And when we talk about waterfalls in the personal finance and investing space, we're talking about this concept that you only have a certain amount of money.

What you do is you pour it like water into the top waterfall and that pool is full, it spills over into the next pool. And into the next pool, once that pool is full, and into the next pool, and you might get down five, six, seven pools, whatever. And then you run out of money.

And what that waterfall represents is the best uses for your money. And that might be paying on a debt. It might be maxing out some type of a retirement account. For example, a waterfall that we've put together to help people decide what to do next. Because it's hard in the beginning. This is all kind of new to you. And you got 12 great uses for money. And you're like, “How do I prioritize these?”

But here's one way you can prioritize these. We call it the waterfall of tax efficient investing. And that first pool is your employer provided retirement plan match. The match is free money. If you just save something for retirement, you get paid more by your employer. Maybe it's 50% of the first 6% of your salary that you put into that account. That's your first priority because not getting it is leaving part of your salary on the table. You put enough money, enough water into that pool so you get the full match from the employer.

And then it spills over into the next pool. And the next pool is really, should be high interest rate debt. Now what's high? Well, probably more than 6%, maybe more than 8%. Certainly any sort of credit card debt at 15 or 30% is in that category. This is a high priority. Your guaranteed investments out there are paying you something like 4% or 4.5% these days.

If you can get a guaranteed return from paying down an 8% debt, that's pretty attractive. Yeah, you might do a little better than that if you have a particularly good real estate investment or maybe stocks have a good year. Maybe you can borrow at 8% and come out ahead investing. But for the most part, when you get into those higher interest rate debts, it's a pretty good option. We have that as our second pool.

The third pool, I would put a health savings account. It's one of the major priorities for us every year because it's triple tax-free. You get a tax break when the money goes in. It grows tax-free when it comes out and is spent on healthcare. It comes out tax-free. It's triple tax-free. It's a really, really tax advantaged account. And so that one really comes next.

And then next in the waterfall, once you've filled that out, you got your match, you paid off all your high interest rate debt. You now maxed out your HSA for the year. That's probably where your retirement account comes. And maybe it's a solo 401(k) if you're self-employed. Maybe it's a 403(b) if you're at an academic center, whatever. But you max that out next. It might be $23,500 this year.

Still got more money you can put away toward building wealth? Well, that's where we start looking at a backdoor Roth, both for yourself and for your spouse. If you're under 50, that's $7,000 this year for each of you.

You still got more? You can always invest more in taxable. And that pool actually never ends, because you could put $10 million a year into a taxable brokerage account if you wanted to. But sometimes people put a limit on that and they say, “I want to invest this much into index funds and a taxable account and then we're going to stop doing this. And I'm going to go buy a rental property, some sort of alternative investment or I want to put $10,000 into Bitcoin if I can, or whatever.” You get to design this waterfall yourself. And at this point, you can pick anything you want.

Other people, they're very debt averse and they're going to put even low interest rate debt into the waterfall at about that point. I know we didn't really have much of a taxable brokerage account until we'd paid off our mortgage. It was important to us to pay off a mortgage. And so, before we had much of a taxable brokerage account, we actually dedicated money toward paying off the mortgage. And then of course, that allows you down the road to invest even more into a taxable brokerage account.

But that's the concept of a waterfall. You're moving from one pool to another. You are engaging with your financial priorities in the order in which you have prioritized them. Your money is going toward what you value the most. And I think that intentionality is really valuable. And the concept is helpful for those of you that are early in career and you've got these dozen things that are good to do with your money. Maybe it's beefing up your emergency fund and paying off this debt and that debt and this debt. And you got all these new retirement accounts you want to take advantage of. And maybe you want to be a landlord and so you want to do some of that. And you want to take your kids to Europe or whatever. You got all these priorities.

Well, you got to list them out in the order in which you care about them most and start addressing them, start working down them. And you will find, like Matt found, as you go through that first decade or so of your career and your financial life, that some of those start going away. You pay off the debts or you no longer have whatever that priority was. And pretty soon, instead of working with a dozen of them, you're only working with three of them. And your life actually becomes a lot more simple.

SPONSOR

This episode was sponsored by Bob Bhayani at Protuity. One listener sent us this review. “Bob has always been absolutely terrific to work with. Bob has quickly and clearly communicated with me by both email and or telephone with responses to my inquiries usually coming the same day. I have somewhat of a unique situation and Bob has been able to help explain the implications underwriting process in a clear and professional manner.”

Contact Bob at www.whitecoatinvestor.com/protuity. You can also email [email protected], or you can call him at (973) 771-9100 to get disability insurance in place today.

If you'd like to be on this podcast, you can apply whitecoatinvestor.com/milestones is where you do that.

Until our next episode, which will drop this Thursday, an episode of the regular White Coat Investor podcast, keep your head up and shoulders back. We'll see you next time.

DISCLAIMER

The hosts of the White Coat Investor are not licensed accountants, attorneys, or financial advisors. This podcast is for your entertainment and information only. It should not be considered professional or personalized financial advice. You should consult the appropriate professional for specific advice relating to your situation.